While President Trump has made numerous statements and promises regarding tax revision  as of yet there is no new law or policy legally in place. However, progress has been made with the House passing the budget reconciliation bill on May 22. The bill includes immediate expensing of domestic R&D costs starting in 2025 and will sunset again in 2029. If passed, this means that companies will be given the option to immediately expense R&D costs for four years before immediate expensing sunsets and reverts to required capitalization of R&D expenditures. As the bill moves through the Senate, we will be watching closely for any changes and will release additional guidance pending further updates.

Since the Tax Cuts and Jobs Act (TCJA) went into effect, one of the biggest concerns for technology and life science companies, stemming from the President’s first term, has been the Section 174 research and development (R&D) capitalization.

The TCJA includes numerous “sunset provisions,” legal provisions that automatically expire on a specified date. Perhaps the most significant for technology and life science companies included within the TCJA was its treatment of R&D costs. 

Starting in 2022, IRC Section 174 requires companies to capitalize R&D costs and amortize them over five years for domestic R&D and 15 years for international R&D. Prior to 2022, companies had the option to expense these costs in the year incurred. Section 174 capitalization has been, at times, a struggle to accurately track, and these rules have caused several technology and life sciences companies, who had never paid taxes before, to become taxpayers. 

With that being said, Section 174 compliance has had some positive impacts. The additional required procedures have encouraged clients who previously did not perform R&D credit studies because of the cumbersome tracking requirements to begin performing studies, as they are now required to monitor their R&D costs meticulously for Section 174 purposes anyway

Even if the tax law remains as is for taxpayers with domestic R&D, this will soon become much less of a burden. Once a company has five years of R&D capitalized, it will also be amortizing five years' worth of R&D costs. After the five-year period, any incremental R&D capitalized should be largely offset by the amortization of the five years’ worth of R&D costs previously capitalized.

What does CohnReznick think?

The immediate expensing of R&D costs in 2025 will result in companies having amortization on three years of previously capitalized R&D costs (2022 through 2024). Additionally, companies will have the option to either capitalize or expense R&D costs immediately from 2025 through 2029. This approach does not provide an immediate benefit on prior period capitalized costs via the filing of a method change,  but it will serve as a planning mechanism for taxpayers to decide whether to continue capitalizing or expensing going forward.

Conversely, if the bill allows for a retroactive change, it would enable a potential one-year benefit by expensing previously capitalized R&D costs and expensing R&D costs going forward. Any change in R&D capitalization presents an opportunity for tax planning, depending on the specific circumstances of the company.

Contact us to discuss potential tax planning strategies with respect to tax revision.